Lexi Holdings Plc v Luqman & Ors

A company director’s duties are personal and inescapable. Reasonable delegation is permissible, but a director cannot abandon responsibility or allow a dominant colleague to evade proper supervision.

Where known facts indicate continuing dishonesty involving company assets, the director must investigate with appropriate scepticism and take protective action. A persuasive explanation does not excuse inactivity when proper performance of the duty requires the director to remain on guard.

In determining causation, the counterfactual must assume that each person whose conduct is material performs their legal duties. A probable further breach of duty cannot break the causal chain or excuse the original breach. A director is liable for subsequent losses where proper investigation, disclosure, supervision or removal would probably have prevented the misappropriations.

The company provided bridging finance using bank facilities. Its managing director dishonestly misappropriated almost £60 million through company bank accounts. His two sisters were directors. They knew of his convictions for dishonesty but remained inactive despite a large, fictitious directors’ loan account and transactions involving connected companies.

Briggs J had declared that both sisters breached their fiduciary and common law duties. Following trial, however, he held that their inactivity did not cause the losses, except in relation to sums paid to them. He reasoned that the managing director would probably have deceived them and that later disclosure to the lending banks would not have altered events.

The company appealed. The central issue was whether, on a counterfactual involving proper performance of the sisters’ duties, their breaches caused any of the misappropriations claimed against them.

1. The appeal was allowed unanimously. The Chancellor gave the judgment, with which Richards LJ and Hallett LJ agreed. The directors were liable for the full amounts claimed against them: £41,968,294 in the case of Zaurian and £36,968,988 in the case of Monuza.

2. A director must take reasonable steps to safeguard the company’s assets and to prevent or detect fraud. Although responsibility may properly be delegated, it cannot be wholly abandoned. The court applied the principle in Re Westmid Packing Services Ltd [1988] 2 BCLC 646 that directors’ responsibilities are personal and that they breach their duties if they allow a dominant colleague to manipulate or deceive them.

3. The judge had erred by treating the managing director’s ability to deceive his sisters and other directors as exculpatory. Unlike the persons used for comparison, the sisters knew of his convictions and their family’s limited means. Proper performance of their duties required searching questions about the very large directors’ loan account and a guarded assessment of his explanations. He could not have satisfied them that the account was genuine if they had performed those duties.

4. Zaurian should have discovered the fictitious account shortly after becoming a director. She could not properly remain inactive. She should have obtained advice, informed the auditors and later informed the incoming directors. The auditors could not then have issued unqualified accounts, so the increased banking facilities would not have been granted and the later misappropriations would not have occurred.

5. Monuza should have learned of the convictions and fictitious account upon becoming a director. Together with Zaurian and the other independent director, she had power under the company’s articles to remove the managing director or impose external controls. Proper performance of their duties would therefore have prevented all subsequent misappropriations claimed against her.

6. The causal analysis had to assume proper performance of applicable duties. It was impermissible to excuse one breach by predicting that another person would probably commit a further breach. Given the decisive consequences of discovering the fictitious account, it was unnecessary to determine how the auditors or lending banks would have reacted in the other hypothetical circumstances considered below.

1. Court of Appeal (Civil Division): The company’s appeal was allowed unanimously. The implied dismissal of its claims against the two directors was reversed, and declarations of liability were made for £41,968,294 and £36,968,988 respectively.

2. High Court, Chancery Division: Following trial in June 2008, Briggs J held on 16 July 2008 that the directors’ inactivity had not caused the relevant misappropriations, except for sums paid to them. His order of 22 July 2008 gave effect to that conclusion and permission to appeal was granted.

3. High Court, Chancery Division: By an order of 23 November 2007, Briggs J had declared that the two directors’ total inactivity breached their fiduciary and common law duties and directed a trial of causation and the remaining issues.